Bond markets across geographies are experiencing their worst streak as inflationary pressure reminds investors of the mortality of easy money. According to Bloomberg, the global bond index is down 11 percent from its peak in January, which roughly translates to a whopping $2.6 trillion capital loss for bond investors.
The most tracked US 10-year benchmark treasury yield has climbed 10 basis points in the past one month and the yield on German bunds has climbed out of negative territory. One basis point is one hundredth of a percentage point.
Bond yields from Japan to Australia have all risen in the past month, wiping out capital gains of investors. Note that bond yields move inversely to prices. In this rout, India’s bonds have not been left behind. At the same time, the damage in the domestic market has been rather mild. The 10-year benchmark government bond yield has climbed about 8 basis points in the past one month. Here’s a look three key reasons that limit the rise in domestic bond yields.
Friendly policy
Despite the rise in inflation and potential inflationary pressures from fuel, the Reserve Bank of India’s statements on its policy stance hves been benign. At an event last week Governor Shaktikanta Das reiterated that inflation is transitory and that the headline retail inflation index is expected to decline to an average of 4.5 percent in financial year 2023 as forecasted by the RBI.
Retail inflation was above 6 percent in February and is expected to stay elevated this month as well. Economists believe that RBI’s inflation forecast may be hiked in the upcoming policy in April as assumptions on crude oil price may have to be reworked.
In an interview a fortnight ago to Press Trust of India, monetary policy committee member Ashima Goyal had said that the RBI’s inflation forecast assumes average crude oil price at $80 per barrel. Das, in one of his public interactions, explained that the inflation forecast for FY23 would require oil prices to average a particular level for the whole year in question. The governor indicated that there is a fair chance oil prices may not hold above the current elevated levels for long. It remains to be seen whether the RBI’s forecast will hold but for now bond investors are hoping that the central bank’s argument of transitory inflation is right.
Liquidity surplus is still huge with banks parking on average close to Rs 1.5 lakh crore with the RBI through daily reverse repo auctions. In addition, longer tenured reverse repos at variable rates too have continued to get high funds from banks. On an aggregate, the net durable liquidity surplus of the banking system was Rs 9.6 lakh crore as of last week, according to RBI data. This has meant that short-term Treasury bill yields have remained closer to the repo rate of 4 percent. For instance, the 91-day Treasury bill yield cut-off was 3.80 percent at the auction last week. To be sure, yields have risen by roughly 10 basis points in the past one month.
India’s banks need to invest at least 18 percent of their deposits in government bonds under the statutory liquidity ratio (SLR). To that extent, they are captive investors and provide critical support to bonds. In the absence of robust credit growth, banks have been holding bonds in excess of what is required by regulation. Banks held close to 29 percent of their deposits in government bonds as of March 11, shows RBI data. This could, however, change going forward as credit growth picks up. When lenders boost credit, the share of deposits that goes into government bonds would come down. Even so, banks are a permanent support system for Indian bonds.
The captive investment from banks, and persistent liquidity support bonds and keep yields under check. That said, all it would take for the rout in global bond markets to spread to India is the persistent exit of foreign investors and a change in RBI’s stance. Note that bond yields are up more than 40 basis points since January, a reflection of inflationary pressures.
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